Financial oversight council signs off on ‘Volcker Rule’ study

The rule, name after former Federal Reserve Chairman Paul Volcker, is aimed at preventing banks from engaging in risky
“proprietary trading,” which is when banks trade on their own funds
without the input of customers. It also prevents banks from establishing
certain business relationships with hedge funds and private equity
firms, in an effort to separate riskier financial traders from banks.

While Congress approved the rule as part of Dodd-Frank, the work of
actually making it a reality has fallen to financial regulators, and
the FSOC-approved study is intended to serve as a roadmap for
regulators drafting various rules for it. It also establishes a
deadline for when those rules need to be completed — nine months from
the study’s approval. Regulators are required by Dodd-Frank to consider
the study’s recommendations when drafting rules, but are not required
to implement them.

Regulators at Tuesday’s meeting noted that a strong Volcker Rule will
necessitate strong internal compliance programs for banks. To
aid that effort, the study recommended that chief executive
officers be required to publicly attest to the strength of their
compliance programs, as well as require banks to designate which of their
trades are customer- versus bank-initiated.

Furthermore, the study suggests that quantitative analysis could be
used to detect proprietary trading, but the exact details of those
mechanisms still need to be worked out.

In addition, banks should be banned from engaging in transactions that
would allow them to “bail out” hedge funds or private equity funds.

At the same meeting, FSOC members unanimously approved a study on
concentration limits, which prevent financial companies from
consolidating with or acquiring other companies to the point that they
could reach a disproportionately large size in the market and become
“too big to fail.”

The FSOC said in the study that such limits will boost stability in
domestic financial markets, as they would reduce the chance of a firm becoming so large it would be difficult to manage, increasing its chance
of failure.

Members also unanimously approved a proposed rule on how some of the
largest, most interconnected non-bank financial companies would face
stronger regulations due to their importance to the financial system.
Those companies would be subject to higher capital requirements and
more robust supervision, under the proposal.